WASHINGTON, DC – JANUARY 29: Federal Reserve Board Chairman Jerome Powell speaks during a news … [+]
Treasury yields rose again this week; blame this one on Fed Chairman Powell. In an interview at the Wall Street Journal’s Job Summit, he said that the Fed isn’t ready to stop the run-up in yields “until financial conditions tighten.” In so saying, he paved the way for those financial conditions to tighten as markets immediately obliged. We can’t help but think that it would have been better if he had said the Fed wouldn’t tolerate any further rise and would consider, at its upcoming meeting, whether the rise that had already occurred would hinder the recovery. Had he said that, no further Fed action would have been needed, as rates would have immediately backed down in anticipation of such Fed action. But, as it now stands, Fed action is required. Economist David Rosenberg aptly described the resulting situation: Powell, he said, “will be there to pick up the pieces, but only after the dishes break.” The result is that the bond market is now pricing in a Fed tightening cycle despite the precarious condition of the economy and Powell’s insistence that a tightening is nowhere in sight.
The reality is that the economy cannot tolerate higher interest rates, and those believing that rates are rising due to a perception of rising inflation don’t understand what inflation is, how it works, and when it arrives.
The Employment Scene
Let’s first talk about the labor markets as that is the best place to assess the real health of the economy. It is important to keep in mind when listening to Wall Street’s inflation narrative that labor is seven times more important in the inflation calculation than are commodities, which appear to be rising in price due to Chinese stockpiling and due to transportation issues. The next most important inflation ingredient, after labor, is rent, and you know what is happening there.
The Wednesday (March 3) ADP labor report was downbeat, but Friday’s big jobs number made the ADP report a distant memory. The good news from the Establishment (Payroll) Survey was that headline job growth was +379K, handily beating the consensus expectation of +200K. Adding more fuel, January was revised up to +166K from +49K. These are the kind of numbers we can expect for the next few months as the shackles are removed from U.S. service businesses and consumers venture back to those establishments.
But, a word of caution. While the growth in jobs is good news, the composition of that growth and the internals of the labor market are still very concerning. So, don’t uncork the champagne just yet.
- Leisure/Hospitality: +355K; Retail: +44K; Education/Health: +44K. These three total +440K which means the remaining 70% of the economy lost -61K jobs. In addition, these jobs represent the low wage sectors, so they aren’t going to have a big impact on GDP growth. In fact, those goods producing industries, where the higher paying jobs are, lost -48K jobs in February after losing -13K in January.
- The companion Household Survey (from which the unemployment rate is calculated) also showed a positive +208K headline, but the detail showed that more than +140K of those jobs were garnered by the 16-19 year-old age cohort, indicating that growth was in the lower wage restaurant, retail and other low skilled jobs.
- It is quite possible that these jobs were added in anticipation of the spike in demand from the upcoming Biden stimulus, because current demand, or lack thereof, caused the workweek to contract nearly 1% or 0.3 hours. While that might not seem like a lot, when spread over the 140+ million jobs, it is economically equivalent (i.e., take home pay) to somewhere between 800K and 1.2 million average jobs.
- Manufacturers added +21K jobs in February after losing -14K in January, but there was a -0.5% contraction in the workweek and overtime hours fell -3.1%.
- The all-important transportation sector lost -13K jobs, and state and local government employment fell by -83K (and lower in five of the last six months). The Biden stimulus package should reverse this, as there is a significant chunk of funding for these government entities.
- Another distressing piece of data from these reports shows the continuing pain among the laid off job seekers. Those unemployed for 27 weeks or more rose +125K to 4.15 million, and, over the 4 weeks since the last official employment survey, the median duration of unemployment rose by a-very-large 3 weeks, from 15.3 weeks to 18.3. This is an indication that the longer termed unemployed are having very little success in their job searches.
- The U3 unemployment rate fell to 6.2% from 6.3%. Don’t read too much into this. It is based on the Household Survey, which counts part-time jobs the same as full-time. In that survey, full-time employment fell -122K, while part-time for economic reasons (wanting full time but not able to find it) rose +134K.
The real takeaways from these reports are: a) the economy is reopening, but b) new job growth was of low quality dominated by entry-level service jobs, c) full time jobs shrank as did the workweek, and d) no progress was made in re-employing the longer-termed unemployed.
The markets liked the headline number, and that’s important. No doubt we will see much better employment data as the economy fully reopens, but, sadly, this employment report does not confirm the “V”-shaped recovery narrative still pervasive on the sell-side of Wall Street.
The latest weekly employment data still show nearly +1.2 million new unemployment claims. As we have emphasized in prior blogs, one year into the pandemic, and employers are still laying-off +1.0 million more per week than what was considered “normal” pre-pandemic (i.e., +200K). Look at the chart – absolutely no progress since October.
Total State and PUA ICs
Until this changes dramatically, there will be no “V” in the recovery, nor will there be any kind of enduring inflation.
The Biden Stimulus and Other Indicators
The huge Biden stimulus package will give a nice bounce to retail, likely in the April/May time frame. But, don’t expect much more than a transient impact. Unlike infrastructure spending where the resulting improvements or new developments keep on giving, there are no GDP multiplier impacts from “helicopter” money. It is one and done (that’s why we are on the 3rd “stimulus” package). Businesses, knowing the funding is one-time, don’t rush to expand. And, the percentage of “helicopter” money spent on consumption is quite low. The NY Fed did a survey to find out what happened to spending from the earlier “stimulus” packages – only slightly more than 18% of these gifts were spent on “essential” items and just under 8% on “non-essentials.” That’s a total of 26%. Of the remainder, 36% was saved and 35% was used to pay down debt. The belief is that this upcoming round will see even more savings and debt reduction and even less spending on consumption.
February’s new auto sales were 15.67 million units (Annual Rate). The consensus was for 16.0, so a large miss to the downside. This is the lowest level of sales in six months. Of more concern is the University of Michigan’s Consumer Sentiment sub-index of Vehicle Buying Intentions. These have fallen to their lowest level since…November 2008!
Housing, too, has issues. There are shortages of single-family homes due to the massive migration out of central cities to the suburbs (the shift to the Work From Home environment). These single-family shortages have caused prices to skyrocket even faster than in the housing bubble early this century and far outstripping income growth. Affordability is now a serious issue. Enter rising interest rates. The 30-year fixed mortgage rates sliced through the 3% barrier like a hot knife through butter (3.23% according to the Mortgage Bankers’ Association), further compounding the affordability issue. (Home prices have nowhere to go but down!) The U of M survey shows that consumer intent to purchase a home has fallen off a cliff in 2021. Except for the pandemic months of May/June last year, the last time there was such a depressed level of intent was … January 2008! Remember the housing collapse?
Bankruptcies
The year started off with a much lower rate of bankruptcies (BKs) than we saw in 2020. In fact, BKs were slowing for much of the last half of the year due to the Fed’s propping up of zombie companies. The data in the table and chart is from Bloomberg’s table of BKs among publicly held companies.
Bankruptcies ’18, ’19, ’20; annualized ’21 by Month
The chart shows the totals for 2018, 2019 and 2020 (note the 2020 spike). It then shows semi-monthly annualized estimates for January and February. The latest data shows a spike in the annualized total as of March 3, as early March saw a flurry of BKs. We suspect that higher interest rates are playing a significant role.
More on the Fed
Back to the interest rate spike. While Powell put his foot in his mouth, the Fed can’t let rates rise much further without a serious risk of a double-dip recession. And, in fact, they need to lower them. In the latest Fed Beige Book, a compendium of economic observations from the 12 District Banks, eight of the 12 banks indicated flat to falling economic activity in their regions. Here are some typical comments:
- SF Fed: “…labor markets deteriorated somewhat…”
- KC Fed: “…consumers pulled back in February…”
- Richmond Fed: “…Retail Sales…declined…”
- NY Fed: “…the regional economy declined modestly…”
Powell & Company know from their own regional banks and their economists that the economy isn’t on the precipice of a boom and it isn’t threatened by inflation. Powell has said as much. And we have spelled it out here. Fed action, and soon, is highly likely.
Conclusions
Going forward, there are likely to be some spikes in the CPI, especially in April and May, due to Y/Y comparisons to the early pandemic closed economy. (Remember the anomaly of negative oil prices last April?) But, inflation is a process, not a few one-offs, and the economy still has 18+ million un- or under-employed, 3.4 million mortgage delinquencies, and 10 million owing back rent. (Like the NY Fed, we think that much of the upcoming “stimulus” will be used for these rather than for consumption.) An era of inflation is impossible under these conditions.
Interest rate rises only make it harder for the economy to grow as debt service costs detract from consumption (consumers) or expansion (business). The current spike in rates is temporary, and last week’s spike was due both to ambivalence on the part of Fed Chair Powell, and to the modern-day gamesmanship between the markets and the Fed.
Look for the Fed to step in soon. If they don’t…
Joshua Barone contributed to this blog
